The dynamics of crises and the equity premium

Nicole Branger, Holger Kraft and Christoph Meinerding

No 11, SAFE Working Paper Series from Leibniz Institute for Financial Research SAFE

Abstract: There has been a considerable debate whether disaster models like Barro (2006) can rationalize the equity premium puzzle. This is because empirically disasters are not single extreme events, but tend to be long-lasting periods in which moderate negative consumption growth realizations cluster. Our paper proposes a novel way to explain this stylized fact. By allowing for consumption drops that can spark an economic crisis, we introduce a new economic channel that combines long-run and short-run risk. First, we document that our model can match consumption data of several countries. Second, we show that in a model with recursive preferences our new channel generates a large equity risk premium even if the consumption drops are assumed to be of moderate size.

Keywords: General Equilibrium; Asset Pricing; Recursive Preferences; Long-run Risk; Short-run Risk (search for similar items in EconPapers)
JEL-codes: G01 G12 (search for similar items in EconPapers)
Date: 2014, Revised 2014
New Economics Papers: this item is included in nep-dge
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (2)

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Related works:
Journal Article: The Dynamics of Crises and the Equity Premium (2016)
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Persistent link: https://EconPapers.repec.org/RePEc:zbw:safewp:11

DOI: 10.2139/ssrn.1633480

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